Personal Perspective: Venture capital and open source

Brendan O’Brien is a leader in the open source software development community and open data movement. He founded Qri (pronounced “query”) to help bring the benefits of open source software to public data. He helped to launch DataTogether.org, a network of communities, data scientists, and developers dedicated to promoting a culture of data collection and sharing. He is also a member of EDGI, the Environmental Data and Governance Initiative, founded to support efforts to preserve at-risk government environmental data. Photo by Flickr user Sherrie Buchner

The question of venture capital (VC) as a funding option often comes up in open source communities. Here we’ll break down how the concepts of open source and venture capital relate to each other, and try to get a better understanding of when they work well together and when they don’t.

If you’re reading this, there’s a very good chance you’re in one of two camps:

You want to do an open source project, and your goal in seeking money is to buy groceries and keep coding.

You want to build a startup, and someone is telling you that open source is a requirement for working with them.

If either of those sounds like you, you should be extremely cautious about blending VC and open source. You should remain biased for as long as possible against either taking VC money or open-sourcing your project, and only do either of these things when the vast majority of your concerns are addressed.

Open source as a barter economy

For the purposes of this discussion we’re going to conceive of open source as a barter economy where people are creating value by exchanging services directly instead of translating value through money.

While this isn’t a perfect analogy, but we can use this barter economy model to highlight a few key characteristics of open source:

People participating in open source are exchanging value with each other

That value exchange is direct, meaning it doesn’t pass through money

Thanks to free or extremely-low cost copying, these barter economies can grow wildly

What’s so beautiful about this model is that open source is capable of accomplishing incredible feats through direct value exchange. In practice open source often struggles to be fair and to distribute labor evenly, but these problems are true of any economy.

What is venture capital?

A VC fund is basically a big pile of money — anywhere from 10 million to 1 billion — that investors use to buy equity in fast-growing companies that are likely to provide high returns on investment. Wealthy individuals and/or institutions decide to contribute to a given fund on the basis of an investment thesis, which is a set of ideas the venture capitalist believes will allow the fund to achieve a high rate of return.

Here is an example of one such investment thesis: “Internet startups that successfully engage ‘network effects’ tend to achieve astounding growth. This VC fund invests in companies that are creating network effects.”

In order to obtain investment from a VC, your project must fit the fund’s thesis. To figure out whether there are any funds for which you might be a good candidate, compare the thesis of your open source project to their funding thesis and see if there’s any alignment.

Next, look to see if that VC has success with the companies they fund. VCs and the funds they assemble are, in theory, judged by the market according to their thesis. If their thesis is incorrect, they lose money; if it’s correct, they gain. But in reality, there are many details of execution that contribute to a VC’s efficacy.

Um, where are all the open source VCs?

When looking for open source funders, you may notice that there are very few funds or VC’s who “get” open source.

This is because open source projects tend to have a multiple motivations. While open source founders may want financial success, chances are they also place value on getting better tools into the hands of those who need them. These overlapping priorities muddy the waters for VCs, whose decision-making is always based on a single mission: beat. the. market.

So, when you say “I want to do it open source” to a VC, their next question will be: “How does that lead to breakaway growth?” This is the irreducible problem when it comes to mixing open source and VC. There is a very real chance that VC will not be compatible with your open source project.

Growth via value creation

Even if the match between VC and open source isn’t always a given, there does exist possibility for collaboration in the right circumstances. Note that VCs are more concerned with growth than with revenue. That emphasis presents a key opening for some open source projects. After all, growth is abstract enough to contain different forms of value creation.

Both open source and VC want to attract people to their project, and that is done by offering people value. Open source projects aim to grow by creating value. That works well for VCs; the issues arise when an open source project isn’t fully equipped to turn that value into revenue. But open source startups that find ways to leverage the value of their open source offerings to create complementary revenue streams may be well positioned to attract VC funding.

VC-funded open source projects must constantly balance their positioning in the open source barter system with their identity as a business with a revenue model. It is a difficult and pressure-filled balancing act, but one that can — in some cases — result in a win-win situation in which the open source work thrives and VCs get the returns they seek.